Investors like to compare the stock market to a roller coaster with its scary ups and downs. That description has never been more accurate than in the last two years, when the market took investors on a wild ride and, just like a roller coaster, ended where it started. The Dow index hit the 18,000 level on December 23, 2014, and was sitting just below that level at the end of October 2016.
Then came November with plenty of activity both in and out of the market, including the conclusion of a very contentious election with a surprise victory by Donald Trump over Hillary Clinton. Initially stunned investors drove the futures market down over 800 points, but when the market opened the next day, fears of a financial Armageddon quickly vanished as the markets roared ahead. Over the next two weeks, all major equity indices hit new highs, the benchmark ten-year Treasury yield spiked from 1.8% to 2.4% (a 33% increase in yields!) and the US dollar jumped 6%.
As Election Day rapidly approached, more and more of our clients called to ask what we were doing to prepare their portfolios. Our answer was the same to all of them: “nothing.” Our discipline has always been to ignore market “noise” and concentrate on the long-term. To confirm, we looked at a number of studies that showed that neither political party’s occupation in the White House had a statistically significant impact on the US equity markets.
In the end, how stocks perform in an election year (or any year, for that matter) has less to do with candidates than with the economic backdrop. Earnings and interest rates drive stocks – not the people running for office.
So what do we expect for the economy going forward? There have been some positive signs that the economy has been picking up steam. Existing home sales hit a ten-year high in October. Durable goods also jumped in October on capex spending. However, the huge national debt of over $19 trillion, exceeding 100% of our gross domestic product (GDP), continues to be a major drag on the economy. We have discussed in the past how developed countries with debt to GDP over 90% have seen sub-par economic growth for extended periods of time.
The equity markets seem to be pricing into the fiscal policy implications of a Republican sweep. Predicted economic legislation changes includes lower individual tax rates, corporate tax reform (the US has the highest combined corporate tax rate in the world) and increased infrastructure spending.
What the equity markets need to remember are the bond “vigilantes” – actual changes in interest rates caused by perceived changes to credit and/or inflation risk. We have already gotten a taste of this, as interest rates spiked with the Trump victory and talks about huge new infrastructure spending. Questions looming include:
How will the government finance such spending?
Will it trigger an inflationary spiral?
These concerns could trigger a “bond riot” where interest rates spike and choke off the equity rally.
At AAFMAA Wealth Management & Trust (AWM&T), we continue to focus on the long-term and the individual’s risk tolerance and time horizon. Short-term events are noise, so ignore them. Market volatility is normal.
Since 1926, the US stock market has experienced a yearly decline about 37% of the time. Fifteen percent corrections occur every two years or so. Bear markets of twenty percent come around about every 4.5 years. It is imperative that investors not get sidetracked by short term results and retain a big picture view. Fear and frustration are an investor’s worst enemies.
To be a successful investor, take time to reassess your risk posture and investment horizon. As a client of AWM&T, you have already done this with your account administrator and investment officer. If you are not yet an AWM&T client, call us and come talk with one of our relationship managers to make sure your asset allocation and investment risk is calibrated correctly for your situation, because proper risk assessment will better enable you to stay the course through all types of markets.
Call 800-927-5127 or email email@example.com to contact a member of the team.